From the June 01, 2010 issue of Futures Magazine • Subscribe!

Asian commodities volume boom missing Japan?

Elsewhere, the Tokyo Financial Exchange’s (TFE) three-month euroyen trades over 50,000 contracts a day, making it one of the most active short term interest rate contracts in the world, while the TFE’s suite of currency contracts trade in some cases more than 60,000 contracts a day. In fact, the decision to move to trade these products over-the-counter is said to have saved the exchange.

Although there is much to be done in growing the financial business in Japan, that side isn’t the problem; it’s commodities that struggle. That’s perhaps surprising, as Japan is credited with giving birth to the futures markets. However, due to questionable practices, stringent regulations or just the lack of size in the business, commodities trading in Japan is at a crossroads, which could force mergers of exchanges that 10 years ago were unthinkable.

Around the world, blending the financials and commodities on one exchange isn’t ground breaking. In most of the developed countries, these products are on the same exchange or are owned by the same parent. But in Japan, which has taken baby steps to evolve its derivatives business, placing of these seemingly apple and orange communities is a breakthrough. For it not only would mean the merger of two areas that have remained separated for decades, it would mean a realignment of the regulators. Today, Japan still has three regulators. For commodities, there are the Ministry of Economy, Trade and Industry (METI) and Ministry of Agriculture, Forestry & Fisheries. For financials, it is the Financial Services Agency, which regulates the securities and other financials.

The commodities industry in Japan, with double-digit percentage volume drops the past two years, has gotten so weak, even the regulators know something needs to change. Tadashi Ezaki, president and CEO of the Tokyo Commodity Exchange (Tocom), understands his challenges. He points out the reality he lives with: Tocom had record volumes in 2003-2004, and since then, volumes have dropped to a third of what they were (in 2009, almost 29 million contracts traded on the exchange). He recognizes his competitors, especially in the Asian world, all have grown dramatically while Tocom deteriorated. His main objective, he says, is to stem the flow. He says there are three key reasons why his competitors have done better: ease and accessibility with faster technology, Japan’s revision in the legal framework in customer protection, which has been good for the retail trader but not so much for the professional, and Tocom’s list of products seems not as attractive as other exchanges.

His plan for recovery includes the new computer system that uses the Nasdaq platform, speeding up trading and hopefully attracting those algo and high frequency traders exchanges woo. He also wants to add remote memberships, allowing U.S. traders direct access (a “no-action” letter is in the process). Next he wants higher position limits for investment trusts to be able to trade on the exchange, and finally, he’s planning on extending trading hours. Last year, Tocom introduced a night session until 11 p.m. Tokyo time to grab some European interest, and they are looking to expand it further, to 4:30 a.m.

Metals contracts are the cornerstone of the exchange -- it boasts the most active gold contracts in the region -- but Ezaki seeks to grow an energy suite of products. He also hopes the rubber contract can rebound. But he looks to the launch of the Nikkei Commodity Index, which is made up of all products listed at Tocom in conjunction with the OSE, as something that will aid the exchange and bring new players into the fold. Finally he hopes the SPAN introduction in June will bring Tocom to the forefront in global trading and risk management.

But something might happen before he can realize his plans: with the move of ending the separation of commodities and financial exchanges, no doubt one of Tocom’s larger financial relatives will make a run at the exchange. The OSE might make a more attractive match for Tocom, as they’ve already paired on some products including exchange-traded funds on metals and the commodity index. However, the Tokyo Stock Exchange has worked with Tocom on an emission contract.

With the synergy of combining exchanges, it’s possible Japan’s commodities industry has seen its darkest days. New blood in terms of members, as well as newly merged exchanges, could be Japan’s best hope in recapturing some of its past glory. Japan may be an island, but it is amidst a burgeoning archipelago of countries that have rewritten the rules, making Asia the fastest growing region in the world. Attention must be paid.

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